Nicolas Véron

Is the private sector retreating in China? Not among its largest companies

This blog post, co-authored with Tianlei Huang, was just published by the Peterson Institute and is based on our simultaneously published working paper on China's largest companies. 

Update (April 1): the Peterson Institute highlighted the first chart below as a PIIE Chart. 

Update (April 5): a lightly modified version of the same text was just published by Bruegel, together with their version of the working paper. 

Update (April 7): a slightly abridged version was published today by Caixin. 

Update (April 22): Caixin also published a version in Chinese. 

China's wave of regulatory restrictions on private-sector businesses in 2021 has been widely interpreted as reflecting a decisive turn, driven by President Xi Jinping for several years, toward a new economic regime with a greater role played by state-owned enterprises (SOEs). But is China's private sector truly being crushed? Evidence presented in a new PIIE Working Paper tells a different story—that among China's largest companies, the private sector is expanding rapidly and at a faster rate than SOEs.

The new PIIE paper has collected and analyzed data on the changing shares of the state sector and the private sector among China's largest companies for more than a decade. The data show that China's private sector has grown not only in absolute terms but also as a proportion of the country's largest companies, measured by revenue or (for listed ones) by market value, from a very low level when President Xi was confirmed as the next top leader in 2010 to a significant share today. SOEs still dominate by revenue among the largest companies, but their preeminence is eroding. To be sure, the Communist Party has attempted to develop its presence in the corporate world, including in the private sector, through various means. But equity ownership structures matter. China's private-sector companies are focused on profit maximization and value creation in ways SOEs are not.

The Chinese idiom "state advances, private sector retreats (国进民退)," which has been widely used to describe China's economic trends does not, therefore, represent the main picture of what has been going on under President Xi in China's business world so far, even in the most recent years.

Rapid Rise of Private Sector among China's Largest Companies

Unlike in most countries, shares of many of China's largest companies are not listed on a stock exchange. That is the case for the state sector as well as the private sector, even though many unlisted SOEs have much of their activity conducted in their majority-owned listed subsidiaries. Thus, the paper examines both listed and unlisted companies, using two partly overlapping rankings of China's largest companies.

The first sample is ranked by revenue, a proxy for a company's activity. The data derive from the research conducted by the business magazine Fortune for its yearly Fortune Global 500 ranking, from which the paper extracts the companies from mainland China. This group has grown fast, from 15 companies in the 2005 ranking (based on 2004 revenue) to 130 in the 2021 ranking (based on 2020 revenue). Their aggregate revenue grew from $2.8 trillion in 2010 to $8.8 trillion in 2020, a similar rate as the expansion of China's nominal GDP, which reached nearly $15 trillion in 2020.[1] Their aggregate headcount was 21 million in 2020, slightly under a twentieth of China's total urban employment, a ratio that has been fairly stable over the past decade.

The paper's second sample is limited to mainland Chinese companies whose shares are listed on a stock exchange, typically in Shanghai, Shenzhen, Hong Kong, and/or New York, including companies like Alibaba and Tencent that have adopted variable-interest-entity arrangements to circumvent China's onerous regulations on foreign ownership in certain sectors such as internet services. The paper constructs yearly top 100 rankings of Chinese listed companies from 2010 through 2021, based on year-end market capitalization. Their aggregate headcount and revenue levels are significantly lower than those of the first sample, as would be expected since they do not include some gigantic yet unprofitable unlisted SOEs, and conversely they include some high-growth young companies that hold much promise but are still relatively small. Together, these largest 100 listed companies represent about two-fifths of the entire market capitalization of all Chinese listed companies.

The ownership of these largest Chinese companies involves a range of investor categories. These include, among others, the Chinese state at the central and local (e.g., provincial or municipal) levels, directly through government ministries or departments (such as the Ministry of Finance of the central government) or indirectly through specialized agencies (such as the State-owned Assets Supervision and Administration Commission or SASAC at the central and local levels), state investment entities (such as Central Huijin Company, China Securities Finance Corporation, and the National Integrated Circuit Industry Fund), or SOEs that mix commercial and investment activities (such as China National Tobacco Corporation); founders and/or their relatives, management, and corporate pension funds of private-sector companies; private-sector companies like Alibaba and Tencent acting as venture capitalists; and foreign investors, e.g., diversified entities like Japan's Softbank or Thailand's Charoen Pokphand, and global asset managers like BlackRock or Canadian pension funds.

The paper includes case studies to illustrate the diversity and complexity of ownership patterns of some prominent Chinese companies such as Ping An of China and ZTE. It also has two appendices that detail the latest rankings (respectively, of Chinese companies in the 2021 Fortune Global 500 ranking and of Top 100 listed Chinese companies as of end-2021) with indication of each company's most significant shareholders.

For the purposes of this study, the private sector is defined as those companies, labeled "nonpublic enterprises" in line with Chinese practice, in which state entities hold less than 10 percent of equity capital. Within the state sector, a distinction is drawn between SOEs, in which the state owns a majority stake, on the one hand, and "mixed-ownership enterprises," in which the state holds only a minority position, i.e., between 10 and 50 percent, on the other hand. The methodologies, as well as numerous additional findings, are presented in detail in the paper.

These definitions refer to equity ownership, leaving open other, less easily quantifiable notions. The Chinese Communist Party is clearly striving to develop its influence in China's private sector, even though that influence remains considerably less direct than among SOEs. It would be an exaggeration, however, to say that China is unique in this respect. Government influence occurs with the private sector in Europe, Japan, South Korea, Taiwan, and other advanced economies—even occasionally in the United States. Such influence is surely greater in China, but that does not erase the importance of the divide between the state sector and the private sector. Ownership matters greatly for economic development outcomes, even under pervasive Party control of political matters. The advance of the private sector, which the paper documents, is thus of structural significance for China.

With these definitions in mind, figures 1 and 2 illustrate the rise of the private sector among China's largest companies, measured, respectively, by revenue (all companies) and market value (listed companies). As is clear in figure 1, SOEs still dominate by revenue among the largest companies, much more so than in the Chinese economy as a whole. But the share of the private sector has been steadily rising, from zero in the mid-2000s to 19 percent of the total ($1.7 trillion out of $8.8 trillion) in Fortune's 2021 ranking, which is based on 2020 revenue.

As for market value of the largest listed firms (figure 2), the private sector represented merely 8 percent in 2010 but soared above the 50 percent threshold in 2020, and retreated only slightly in 2021, to 48 percent. Thus, the state crackdown in 2021 on certain private-sector-dominated industries, such as internet platforms and after-school tutoring, has had some impact but stopped well short of reversing the prior advance of the private sector using the market value indicator.

Figure 3 shows similar rising trends for other metrics, based on the same respective samples of companies.

Not Privatization, but Displacement of SOEs by Better-Performing Private Firms

The advance of the private sector among China's largest companies does not appear to result from long-term planning or top-down decisions, but rather from bottom-up dynamics. Deng Xiaoping, the Chinese leader who was the main architect of China's embrace of markets starting in 1978, had predicted in 1980 that "whatever the proportion of the private investment will be, this will cover only a small percentage of the Chinese economy. It will by no means affect the socialist public ownership of the means of production." In the 1990s, facing the need to restructure the loss-making state sector, China under Premier Zhu Rongji made a deliberate choice to keep the largest concerns under state control, even as many smaller SOEs were liquidated or privatized. That policy became widely known by the four-character idiom "grasp the large, let go of the small (抓大放小)," preserving "public ownership as the mainstay (公有制为主体)" of China's economic model. In line with these choices, the first large Chinese companies to enter global corporate rankings, whether by revenue or by market value, were all from the state sector until the late 2000s.

Privatization has been virtually nonexistent among China's largest companies. Nor has the state gone out of its way to confer a comparative advantage on the private sector. On the contrary, President Xi declared in 2016 that SOEs must become "stronger, better and bigger." What explains the observed trend, instead, is that private-sector companies have been more dynamic and profitable than those in the state sector. What PIIE scholar Nicholas R. Lardy has described as the "displacement of SOEs" by private-sector companies has occurred despite a policy environment that clearly does not favor them.

The emergence of private-sector champions reflects the spectacular growth of internet content and e-commerce platforms, but also other areas where the private sector is strong, including manufacturing (e.g., electronics, electric cars, batteries, steel, and chemicals), consumer products and services, pharmaceuticals, and life-science companies. Some of the largest Chinese property developers are also private, though the real estate sector is currently ailing with the shakiness of China's property market and the failure of Evergrande among other developers. By contrast, financial services, telecoms, energy, and transportation remain dominated by SOEs. But the growth of large companies in those state-dominated industries has been comparatively less rapid. In terms of market value, some have even declined in absolute terms, e.g., telecoms and energy.

Of course, the structural trend of private-sector advance, which has characterized the decade of China's development under President Xi so far, may not be a guide to what will happen next. But claims of a pivot back to state-sector dominance have been made multiple times before, with reference to policy shifts in 1989-1990, 2003, the mid-2000s, 2008, 2009, 2010, 2012, 2017, 2019, and early 2020. Meanwhile, China's private sector has kept advancing. There is no compelling indication that this time is different.

1. Whereas it makes sense to compare the respective growth rates, the companies' aggregate revenue is not a measure of their value added or collective contribution to GDP, and thus cannot be directly compared with GDP figures.

The private sector advances in China: The evolving ownership structures of the largest companies in the Xi Jinping era

The Peterson Institute just published a new Working Paper in which Tianlei Huang and I observe the evolving ownership patterns of China's largest companies over the decade-long period since Xi Jinping took over. Click here to download in PDF format in case the previous link is broken. 

In contrast to a cliché narrative of the Chinese state crushing the private sector, we find that this period has actually been the first time since 1949 of significant private-sector inroads into the higher ranks of China's corporate sector, not due to particularly favorable policy (we don't question the fact that SOEs are favored by many government decisions) but rather thanks to the remarkable entrepreneurial dynamism that continues to exist in China.

The paper is based on novel analysis of company-level disclosures which does not rely at all on Chinese official statistics. Two overlapping datasets are used: one of the 100+ largest Chinese companies by revenue, based on Fortune Global 500 rankings; and the other of Top 100 largest Chinese listed companies by market capitalization, irrespective of listing venue (e.g. Shanghai, Shenzhen, Hong Kong, New York) and including variable-interest-entity arrangements such as Alibaba's. In both cases, we find a steady increase of the relative share of the private sector against that of the state sector, even though we use a conservative definition of the former - any company in which the Chinese government owns more than 10 percent of equity capital is considered state sector under our methodology. 

Update (April 5): the same research was just published by Bruegel in its own Working Paper series. Click here to download in PDF format in case the previous link is broken. 

Financial Statements: How Russia’s War in Ukraine Affects the Financial Sector

In today's session, I hosted Sergei Guriev (Sciences Po Paris) and Jacob Funk Kirkegaard (PIIE & GMF) to discuss the prospects for the Russian economy and the broader financial impact of the invasion of Ukraine. 

Six reasons why backstopping Russia is an increasingly unattractive option for China

This blog post co-authored with Alan Wolff was published today by Bruegel. 

Since Russia invaded Ukraine on 24 February, China has been ambiguous about its position on the conflict, while providing rhetorical support for the Russian narrative. At the United Nations, China stands out as the dominant economy that has not declared itself either against or in favour of Russia’s onslaught. It is clear China will not align with the NATO-led pro-Ukraine camp. But the opposite extreme, of providing a backstop to Russia’s war effort, is becoming increasingly unattractive for China. Even though we cannot predict which way China will go, there are a number of self-interested reasons why it should adopt a constructive stance on Ukraine’s future and global stability.

While the relationship between China and Russia has been through historical ups and downs, it has become notably close in recent times. The much-publicised meeting between Xi Jinping and Vladimir Putin at the start of the 2022 Winter Olympics showcased a strong political partnership, while Russian troops were massed on the border of Ukraine. Plausible accounts suggest that Moscow informed Beijing in advance of its intent to attack Ukraine, if not of the full scope of the prepared invasion.

Significantly, these accounts imply that the Chinese leadership, like its Russian counterpart, anticipated a lightning conflict that would quickly lead to a Russian-dominated Ukraine, enabled by a divided West. In fact, Ukrainian resistance has been fierce, and the United States, the European Union and other countries accounting for most of the world economy have shown resolve in their support for Kyiv. The degree of hostility throughout much of the world to Russia’s indefensible aggression and its apparent war crimes threatens to spread to any of those seen to be allied with Moscow. Meanwhile, the Russian military performance has been underwhelming and the war is unlikely to come to a conclusion any time soon.

Six good reasons

While it is plainly impossible to observe the Chinese leadership’s decision-making process from outside, let alone to make predictions about its outcome, it is possible to identify parameters that are likely to play a role in Beijing’s calculations. None of these point towards China gaining any benefit from aligning more closely with Russia. On the contrary, doing so would have clear costs.

First, China in recent decades has displayed a preference for stability. Its primary engagement with the world at large has been as a trading partner and major investor in infrastructure. As the war grinds on, the invasion of Ukraine looks increasingly like a reckless gamble that will disrupt and break many relationships, including trade and financial ones. By supporting Russia, China can only prolong the conflict, actively contributing to continued destabilisation of the international order. A return to stability can only come with an early peaceful resolution in Ukraine.

Second, China has promoted a geo-economic vision for Eurasia, in which it stands at the eastern end of a trading network that extends all the way to Western Europe. China has invested heavily in its relationships with the countries to its west, including Russia and Ukraine. With the EU now firmly on the side of the Ukrainian government, the new reality is that Ukraine will emerge more closely integrated with the rest of Europe. If China stands on the Russian side in a prolonged conflict, it would undermine its Eurasian vision of the Belt and Road.

Third, China has a longstanding diplomatic doctrine that emphasises five “principles of peaceful coexistence”: mutual respect for sovereignty and territorial integrity; mutual non-aggression; mutual non-interference in each other’s internal affairs; equality and mutual benefit; and peaceful coexistence. A quick Russian operation that delivered a stable puppet government in Ukraine could have allowed China to formulate a narrative in which these principles were upheld, but the evidence of Ukrainian patriotism in a war of resistance renders this impossible. To be seen to be discarding the foundational principles of its diplomacy would be costly for China, not least in its relations with its Asian neighbours.

Fourth, China wants to reunify Taiwan with the mainland. A quick Russian victory in Ukraine might have provided support for a Chinese strategy of seizing the ‘23^rd province’ by force. By contrast, a protracted conflict in which the Ukrainian side achieves impressive feats of resistance is a reality from which China may want to distance itself as much as possible. By propping up Russia, China could solidify the pro-Ukraine camp into a durable coalition that could provide a similarly unified response to any Chinese move against Taiwan.

Fifth, China is energy-dependent. The oil price inflation resulting from the war in Ukraine is bad news for the Chinese economy – even assuming it can buy more oil and gas from Russia at a discount. Furthermore, the war-induced price increases in commodities such as wheat, which are basic to the well-being of many developing countries, could subtract from the goodwill built up via the Belt and Road Initiative if China’s actions are viewed as prolonging the conflict.

Sixth, China’s extraordinary growth has been critically supported by access to markets and a continuing flow of international investment. Were China to materially support Russia’s aggression, the pro-Ukraine camp’s sanctions could begin to apply to Chinese interests. Russia’s increasingly murderous attacks against civilians add to the challenge. If China supports Russia, the implied reputational damage may lead to boycotts and lost investment, not to mention moral revulsion among the Chinese population as well. A scenario of significant decoupling of pro-Ukraine countries from China would do direct harm to China’s economic interests.

Balance of interests

Providing support for Russia might allow China to acquire some Russian assets on the cheap, but the Chinese leaders know this would be unpopular with the Russian public and could generate a dangerous political backlash. Worse, China would be faced with a Russian expectation of massive economic assistance, with uncertain likelihood of repayment.

To be sure, even if China recalibrates its balance of interests, it will not join quickly with the US and EU in supporting Ukraine. China has recently been the target of US and European sanctions, and of US tariffs. It bears scars from what it views as over a century of domination and humiliation by the West and Japan, from 1840 to 1949. But China has also become too large and visible to maintain a neutral stance. It can deprive Russia of support without ostensibly coordinating its action with the United States. Chinese rhetoric and propaganda may continue to take Russia’s side on the initial causes of the invasion. But what China does is more important than what it says.

Time is not on China’s side in terms of offering support to President Putin. Continuing Russian atrocities against civilians in Ukraine will be further enabled if China sides with Moscow. That would increasingly derail a return to the conditions that made China’s economic growth possible – a global trading system based on non-discrimination that welcomed China as a participant. A misreading of the pro-Ukraine camp’s resolve could impair China’s economic prospects to an extent that cannot be possibly offset by reliance on domestic (or Russian) demand. Rather than the US rolling back some of the Trump-era anti-China tariffs, these could become a foundation on which new restrictions are built, and could be emulated by other economies.

China has demonstrated pragmatism over time in building its economic position in the world. Prolonging its embrace of Russia would be a major misstep, with likely massive economic costs.

Financial Statements: The Trade-offs of Central Bank Digital Currencies and the Digital Euro Project

In this week's session (on Wednesday 9 March), I hosted Ulrich Bindseil of the European Central Bank (and author of the mesmerizing Central Banking Before 1800) and Natasha de Terán, coauthor of The Payoff, to discuss the pros and cons of central bank digital currencies (CBDCs) with a particular focus on the euro area. 

War in Europe: The Financial Front

This blog post, coauthored with Josh Kirschenbaum, was published on Monday by both Bruegel and, in a marginally different version (below), by the Peterson Institute. 

Since Russia's invasion of Ukraine started on February 24, much has happened in the financial sector, and events keep unfolding at a rapid pace. At the time of writing, Russia is reeling from the impact of massive financial sanctions inflicted by a very broad pro-Ukraine coalition. The Ukrainian financial system is battered but remains functional; and the European Union (EU) financial system has rather easily absorbed the initial shock, as has the global financial system more broadly.

Because it is war, it is impossible to convincingly disentangle what is happening on the financial front from the broader, primarily military-driven environment. We also do not analyze here other major economic developments, such as trade policy measures and withdrawals from Russia by nonfinancial companies. Even so, the financial sector action has been broad enough to deserve specific attention.

The pro-Ukraine camp's financial sanctions have included three main planks. First, a dramatic expansion of sanctions against specific Russian individuals. Second, a series of sanctions against individual Russian banks, including—but far from limited to—the much-hyped ability of the EU to mandate their disconnection from SWIFT, the international interbank messaging system which is based in Belgium and thus under EU jurisdiction, now also known as "de-SWIFTing". And third, the incapacitation of the Central Bank of the Russian Federation's (CBRF) use of its international reserves in a number of jurisdictions that critically include the US, EU, UK, Canada, Japan, Australia, and Switzerland, namely all the core reserve-currency jurisdictions of the world bar China (China's share of the world's aggregate central bank foreign reserves remains in the low single digits, even though its share of the CBRF's reserve is significantly higher). The third action, targeting the CBRF, unambiguously counts as systemic and affects the entire Russian financial system and economy. The first is about individuals. The second occupies a middle ground: If only a relatively small share of Russian banks is affected, it is nonsystemic, but if most are, it becomes systemic. From that standpoint, the EU's de-SWIFTing actions are still nonsystemic, since only seven institutions representing about a quarter of the Russian banking system are on the latest list. More could follow, however. In addition to these governmental decisions, some key financial firms are restricting their Russian services on their own initiative, such as VISA and MasterCard, adding to the general disruption.

The impact of the systemic CBRF-targeted sanctions on Russia's currency and economy is devastating, in part because they were so unexpected, and despite the continued ability of Russia to achieve a current-account surplus as long as it keeps exporting hydrocarbons. In the past, the United States has sanctioned other central banks, e.g., in 2019 Venezuela and Iran. What has never happened before, however, is coordinated action by all Group of Seven (G7) jurisdictions against a central bank, let alone one as large and internationally active as the CBRF. In fact, none of the 63 central banks that are members of the Bank for International Settlements (BIS) in Basel has ever been the target of financial sanctions. The CBRF is a member not only of the BIS club but also of its more exclusive subsets, e.g., the Financial Stability Board or the Basel Committee on Banking Supervision. It was hard to anticipate that it could be blackballed so promptly. Astonishingly for observers of the ostensibly soft-spoken, consensus-driven central banking community, the BIS announced on February 28 that it would itself follow sanctions "as applicable," which was widely understood as alignment with the G7 stance. This has no precedent since the establishment of the BIS in 1931, even during World War II. In recent years, the CBRF had diversified its international reserves away from US dollars and British pounds, but largely into euros (as well as Chinese renminbi and gold). In other words, it appears that the scenario that unfolded on February 26 had not featured on the risk map that underpinned the build-up of financial "Fortress Russia" since the invasion of Crimea in 2014. In hindsight, this was a clear miscalculation by the CBRF's otherwise highly competent governor and her team.

Ukraine, by contrast, is being devastated physically by the Russian military aggression, but is still very much standing financially. On March 1, the Ukrainian government issued $270 million in war bonds; since February 24, the country's central bank has benefited from a swap line of the National Bank of Poland, granting it a degree of access to international liquidity; more powerful assistance could come in the future from the International Monetary Fund, and possibly also from the European Central Bank, even though the latter is far from sure at the time of writing. In the war zones, of course, financial services are disrupted, as is everything else.

In the European Union, the initial shock has already been largely absorbed by the safety cushions created since the previous great financial crisis—thank goodness for Basel III. The presence of Russian banks in the EU is being promptly terminated in an orderly manner. The largest such entity, Sberbank Europe AG in Austria, has been liquidated in the immediate aftermath of the invasion after its Russian parent decided not to give it liquidity support; the second-largest, VTB Bank (Europe) SE in Germany, is likely to go the same way. On the other side of the divide, several EU banks, most prominently including Raiffeisen, Société Générale and UniCredit, have substantial operations in Russia and other financial exposures to its economy. Their stock price has suffered, but not collapsed, and it currently appears that their capital base is sufficient to absorb the shock. Unexpected damage could surely pop up in other corners of the system. But that risk does not currently appear large enough to threaten financial stability at a systemic level.

What happens next is, of course, anyone's guess and will keep depending on military developments. Further escalation of financial sanctions is possible. For example, the EU could de-SWIFT more Russian banks—possibly including Sberbank, which is already subject to harsh US sanctions, namely a correspondent accounts cutoff that prohibits it from clearing payments through the United States. The EU could also sanction Russian banks more strongly, e.g., banning all transactions with them and freezing their assets (full "blocking" sanctions) as the United States already does, for example, with VTB. Perhaps most important, pro-Ukraine jurisdictions could move towards banning energy purchases from Russia, which are currently allowed under their respective financial sanctions regimes.

On a more long-term, structural basis, only time will tell if the recent action against Russia has contributed to strengthening the international financial system, by punishing destructive behavior, or fragmented it into increasingly decoupled competing blocks. It bears noting, once again, that the recent financial sanctions have been far from unilateral, but on the contrary have been adopted, certainly with local variations, by an extremely wide group of financial jurisdictions that goes beyond "the West." Russia's transgression of international norms is so radical that it remains to be seen to which extent the international response to it, radical as it has been as well, has precedent value.